Norbert's Gambit & Currency Risk: A Canadian Investor's Guide

Why Currency Matters to Your Portfolio

Any investment priced in a foreign currency carries currency exposure. If you own US stocks and the US dollar rises against the Canadian dollar, your holdings are worth more in Canadian dollars, and the reverse is also true. Over long periods, currency swings tend to wash out, but over a few years they can add to or subtract from returns in ways that have nothing to do with the companies.

Hedged vs Unhedged: What's the Difference?

Many Canadian-listed ETFs that hold foreign stocks come in two versions. An unhedged fund, such as VFV (an S&P 500 fund), moves with both the stock market and the exchange rate. A currency-hedged version, such as VSP, uses financial contracts to strip out most of the currency effect, so it tracks the stocks in Canadian-dollar terms.

Neither is universally better. Most all-in-one ETFs hold foreign stocks unhedged, and many long-term investors are comfortable with that. Hedging is worth considering if a shorter time horizon or a need for steadier Canadian-dollar results makes currency swings uncomfortable.

The Hidden Cost of Converting Currency

If you want to buy US-listed securities, you need US dollars, and the standard conversion at most Canadian brokerages and banks carries a spread that's commonly cited at roughly 1.5% to 2.5%. On $20,000, a 2% spread costs about $400, paid once and never itemized. This spread applies each time you convert, including when you convert back.

How Norbert's Gambit Works, Step by Step

The trick uses the Global X US Dollar Currency ETF (formerly branded Horizons), which trades on the TSX under two tickers: DLR (priced in Canadian dollars) and DLR.U (priced in US dollars). They're two lines of the same fund, so the value is the same after the exchange rate.

1. Buy DLR in Canadian dollars on the TSX. A limit order helps avoid a surprise price.
2. Wait for the trade to settle, usually a couple of business days.
3. Journal the shares from DLR to DLR.U. This is a transfer within your brokerage. Some brokerages offer it online, some require a phone call, and some charge a fee for each request.
4. Sell DLR.U in US dollars. The proceeds are US cash in your account.
5. Use the US dollars to buy your US-listed ETF or stock.

The same steps in reverse, starting with DLR.U, convert US dollars back to Canadian. Brokerages differ in how easy this is, so read your brokerage's help pages before you start.

When Is It Worth It?

The gambit replaces a percentage-based fee with mostly fixed costs, so it gets better as amounts grow. Here's an illustration using assumptions: a 2% broker conversion spread versus about $20 in fees plus a 0.2% combined spread on the gambit. Your own brokerage's numbers will differ.

Those figures are illustrative, not quotes. On small amounts, the effort and the fixed costs erode the savings, so many investors don't bother below a few thousand dollars, and some brokerages already offer lower conversion rates.

Risks and Tax Angles

• Price movement while you wait. DLR tracks the US dollar, so the risk over a few days is small, but it isn't zero.
• Tax in non-registered accounts. Small gains or losses between buying and selling are capital gains or losses, calculated in Canadian dollars, which can be fiddly to report. In a TFSA or RRSP, that isn't an issue.
• Brokerage rules. Whether journaling is allowed, how long it takes, and what it costs varies by brokerage.

Do You Even Need US Dollars?

If you hold Canadian-listed ETFs, such as VFV or an all-in-one ETF, you never need to convert anything: the fund handles the foreign currency for you inside. The gambit matters mostly for investors who buy US-listed securities directly, often to capture the RRSP treatment discussed in US withholding tax. For everyone else, avoiding the conversion altogether is the cheapest option.

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